As with any emerging technology and market there are multiple risks. The cryptocurrency industry is still in its early stages which means the potential is great but the risks are great too. We will delve into cyber-security another day, but let’s talk about the main risks:

Small volume, high volatility

Most stock and commodities trading happens in a few exchanges. Liquidity is high in these particular exchanges. Crypto, however, is fragmented all around the world in dozens of platforms. If you trade on a small exchange and somebody trades $10M, the price could swing wildly for a few minutes. This would not happen at Stablehouse. Stablehouse’s partners simultaneously trade in all the biggest venues around the world to deliver the best exchange rates without affecting the price (the technical term is low price slippage).

Regulatory Risk

We have come a long way in the last 5 years. More and more regulators understand that crypto brings new economic opportunities and is a fertile ground for innovation. However, when exchanges or platforms operate in non-regulated countries several problems can emerge: bans, asset seizures, unexpected taxes, or being associated with illicit operations like money laundering. If you invest in crypto through a platform, make sure it operates in a jurisdiction with clear and transparent regulations [1].

Market crashes

Large drawdowns in the price of Bitcoin have occurred in the past, dragging down correlated crypto-assets [2][3]. We have seen that the price recovered long term, and that cryptocurrencies have a lot of room for growth. However, a multi-year bear market is a risk to keep in mind.

Source: visualcapitalist.

Bugs

All blockchains are software running on computers around the world. Since software is written by humans, no software is free of errors (called software bugs). The Bitcoin protocol itself had dozens of bugs which are now fixed [4]. Software companies know that catching bugs requires three ingredients: time, expertise and incentives.

People have been inspecting the Bitcoin software for 11 years now. Thousands of expert hackers and programmers have studied it carefully. If finding a flaw can net you billions of dollars, you can be sure that hackers are trying! This gives people confidence that no major flaws remain in the protocol. Younger blockchains which are still introducing major changes are riskier and will have to stand the test of time [5]. And riskier still are smart contracts developed a year ago or even last month. Smart contracts need to be audited several times and battle tested for years before their risk decreases.

Empty promises

A common phrase in the crypto-space is “don’t trust, verify”. It is a reference to the Bitcoin ledger which anyone can download to verify that each and every coin is there, and that no more than 21M have been issued. For traditional investment banks you need to trust their auditors assuming they share their findings. Equally, in the crypto world, there is a spectrum of transparency. Thousands of individuals audit Bitcoin and Ethereum daily and automatically. But other coins may hide several layers of trust. Some US digital coins promise that there is 1 USD in a bank for each 1 US digital coin. “don’t trust, verify” is a good guiding principle here too. Are there audits or attestations? Has the company who issues the digital coins been transparent in the past? If the answer is no, the risk profile of the coin needs to go up.

Although cryptocurrency has brought fantastic returns in the last years, one should remember that these are risky assets. The prudent investor should not invest more than what they are willing to lose. To explore the opportunities at Stablehouse, click here.

Essential References

[1] 2021, Why is Stablehouse regulated in Bermuda?, Stablehouse Help Center
[2] 2017, Michael Harris, A Few Bitcoin Statistics and Similarities to Equities, Medium
[3] 2019, Galaxy Digital Research, Contextualized Analysis of Bitcoin Drawdowns, Medium
[4] 2019, Kai Sedgwick, Bitcoin History Part 10: The 184 Billion BTC Bug, bitcoin.com
[5] 2020, H. Chen et al., A Survey on Ethereum Systems Security, ACM Comput. Surv.